The situation in the RF domestic debtmarket in the second half of the year was determined, firstly, by the movementsin the balances on the commercial banks’ corresponding accounts at the RFCB and, secondly, by a reduced issuing activity of the RF Ministry of Finance.Thus, bonds of only one 6-months GKO series were placed in October for thevalue of about 1.3 billion rubles (out of 5 – billion worth that were floated)with an average yield at an auction of 14.03 percent per annum. With the USdollar exchange rate growth accelerating in December, attractiveness of GKOinvestments dropped while the yields surged to 18 percent per annum.

It should be noted that most transactionsin November-December 2001 were in OFZs #25030, GKOs #21156 and OFZs #27016which the bonds issued during the restructuring of GKO/OFZs frozen in August1998 had been converted to. Obviously, conversion of such a big bond volume (upto 12 billion rubles) under the existing low yields was a success scored by theRF Ministry of Finance in the current market situation.

In 2001 the RF Ministry of Finance,overall, held. 18 auctions for the placement of fresh securities, includingthree auctions for conversion of OFZs #25030 to new securities. The investorswere offered 13 GKO series (with the maturities ranging from 4 to 12 months)and four OFZ series (maturing from 2 to 3.5 years). The fresh securities offertotaled 80 billion rubles with a stated demand of about 79.2 billion rubles.Thus, the RF Ministry of Finance placed about 61 percent of the total issuedamount, generating 45 billion rubles (over $1.5 billion) in proceeds. Theweighted average rate of return at the auctions (net of the issue fornon-residents) stood at about 15.81 percent. So, taking into account the actualinflation rate, the effective cost of borrowing in the domestic market was anegative value for the RF Ministry of Finance.

Itshould be noted, however, that the situation at the auctions changed throughthe year. Thus, the RF Ministry of Finance held three auctions in lateJanuary-February 2001 for the placement of Government short-term bonds for thetotal value of 9 billion rubles, with one of the issues intended fornon-resident owners of “C” type accounts. The yield at the auctions amounted to13.5-14 percent per annum, and on GKOs for non-residents – to minus 1.37 percent27. At thesame time, the weighted average bond yields in the secondary markets were atthe level of 19-20 percent per annum.

On the other hand, the RF Ministry ofFinance failed to float a fresh issue of 6-months GKOs at an acceptable pricewith only about 22 percent of the issue (about 670 million ruble- worth out of3 billion) having been placed. However, already on the next day the main partof the issue was placed in the secondary market.

The RF Ministry of Finance held twoauctions in 2001 floating government bonds. For the first time after the 1998crisis, the investors were offered OFZs with 3-year maturities. The results ofboth auctions should be considered favorable for the Minfin, since the yieldson the bonds being floated did not exceed the market values (19.5 percent perannum on OFZs and 15.96 percent on 6-months GKOs), insofar, about 60 percent ofthe offered volume was placed (including 40 percent of the OFZ issuevolume).

At subsequent auctions floating fresh bonds(June 27, July 11 and 25), the RF Ministry of Finance had to consent to apremium with respect to the yields of the secondary market. However, only theoffers of the short 4-5 months GKOs were a relative success, while only aquarter of the 30-year OFZ issue was placed.

Two bond issues –5-months GKOs #21153 and 3-yearOFZs #27015 were floated in August. The auctions should be consideredsuccessful for the Government, since about 75 percent of the offered volumewere placed at the interest rate not exceeding the market one.

But already in September the RF Ministry ofFinance failed to successfully place fresh securities (5-months GKOs and 4-yearOFZs) for a total value of 10 billion rubles. Thus, the auction for OFZplacement was deemed not to have taken place, since the RF Ministry of Financeconsidered the yieldsannounced by the investors too high, with only 48 percent of the GKO volume onoffer were placed at the weighted average yields of 13.9 percent per annum.

In summing up the results of the GKO/OFZmarket development in 2001, it should be noted that the market’s role in the Russian financialsystem remains low. The negative effective interest rates and a limited rangeof outstanding securities make investments in bonds unattractive, reducing thenumber of potential investors. In the conditions of a significant surplus ofthe federal budget the role of new issues, as might be expected, should lie inproviding assistance to the RF CB in the implementation of the monetary andcredit policy. However, the main part of the GKO and OFZ issue, allowed by theLaw on the 2001 budget, was, in fact, offered in the market in the first halfof the year. At the same time, in autumn with the pressure on the rubleexchange rate mounting and the balances in the correspondent accounts of thecommercial banks at the RF CB increasing, the potential investors were offeredonly the bonds which OFZs #25030 had been converted to.

In our view, such issuer behavior may beexplained both by a desire to prevent a rate growth in the market (the RFMinistry of Finance was comfortable with a negative effective price ofborrowing) as well as the RF Central Bank’s low interest in coordinating themonetary and credit policy pursued through transactions in the open market. Aspointed out in the section on monetary and credit and exchange rate policy,maintaining a negative rate on the ruble assets allowed the monetaryauthorities to a significant extent resolve the “excess liquidity” problem. Inaddition, on the basis of a comparison between the GKO/OFZ market volume andthe balances in the Government accounts at the RF CB, a supposition may be madethat the latter played a much more significant role in pursuing monetary andcredit policy, while transactions in the GKO/OFZ market required highertransaction costs and more careful decisions.

1.4.2. Municipal andsubfederal debt market

In 2001, the consolidated regional budgetbalanced with a surplus of 1.487 bln. RF Rubles, accounting for less than 0.12%of the budget expenditures and less than 0.02% of the GDP.

Over the year, the surplus amount haddiminished almost thirty times against the consolidated regional budgetexpenditures: in 2000 it amounted to 33.994 bln. RF Rubles, or 3.41% of thebudget expenditures. (Table 24).

Table 24

Net debt of regional and municipal budgets(% of GDP)

Year

1995

1996

1997

January-August 1998

January-December1998

1999

2000

200128

Including in RF Rubles

Including in foreign currency

Loans of subfederal and localauthorities, including :

0,38

0,87

1,43

0,71

0,33

0,15

-0,29

-0,04

0,00

-0,04

Repayable loansfrom budgets of other levels

0,07

0,23

0,66

0,05

-0,09

-0,11

-0,03

0,04

0,04

--

Subfederal (municipal) bonds

н.д.

0,16

0,22

0,08

-0,01

-0,05

-0,27

-0,07

0,07

-0,14

Other loans

0,31

0,48

0,55

0,58

0,43

0,31

0,01

-0,02

-0,12

0,10

Reduction ofbalances of budget accounts

...

0,03

-0,18

0,09

0,02

-0,19

-0,30

-0,05

-0,03

-0,02

Deficit financing through loans andreduction of balances of budget accounts29

0,38

0,9

1,25

0,8

0,35

-0,04

-0,59

-0,09

-0,03

-0,06

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Data source: calculations performed by theInstitute of Economies in Transition on the basis of data provided by the RFMinistry of Finance

With a surplus of regional budgetsamounting to 8.948 bln. RF Rubles, or 0.98% of the relevant budgetexpenditures, the deficit of municipal budgets exceeded 15.191 bln. RF Rubles,or 2.63% of the respective expenditures.30

In contrast with 2000, the relative deficitof municipal budgets (against the relevant budget expenditures) had increasedover 1.5 times, while the surplus of regional budgets had quartered. Thesefigures are indicative of the growing tension in the execution of theterritorial budgets caused, among other factors, by the redistribution of thecollection and disbursement powers, given the general cash balance of theconsolidated regional budget (Table 25).

Table 25

Ratio of surplus (deficit) of territorialbudgets to the relevant expenditures (%)

Consolidated regional budget

Regional budgets

Municipal budgets

2001 г.

0,12

0,98

-2,63

2000 г.

3,41

3,95

-1,41

Ratio of the 2001 index to the 2000index.

0,04

0,25

1,87

Data source: calculations performed by theInstitute of Economies in Transition on the basis of data provided by the RFMinistry of Finance

As at 1 of January 2002, the consolidatedregional budget of 46 territorial subjects of the Russian Federation had atotal surplus of 20.2 bln. RF Rubles, or 2.6% of the respective budgetrevenues. The average budget surplus accounted for 1.6% of the respectivebudget revenues. The highest ratio of surplus to budget revenues was registeredin St.-Petersburg (4.6%), in the Republic of Altai – 4.3%, in Moscow and Tatarstan– 3.8%.

Over 71% of the total budget surplus wasgenerated by four territorial subjects of the Russian Federation: Moscow, with44.1% of the total budget surplus, or 8.9 bln. RF Rubles; St.-Petersburg, withan 11.4% budget surplus or 2.3 bln. RF Rubles; Tatarstan, with a 10.7% budgetsurplus, or 2.2 bln. RF Rubles; and Sakha (Yakutiya), with a 5.1% budgetsurplus, or 1.0 bln. RF Rubles.